Coca-Cola: An Interesting Value Play
Posted on: July 21, 2008 - Email Article - Printable Version
Coca-Cola [KO: 45.44, 0.00 (0.00%)] is the world’s largest beverage manufacturing company, serving over 200 countries with non-alcoholic beverages. The stock has taken a downturn after earnings because of low increase in sales volume. It is important to note that these concerns may be overblown as the company still posted profits ahead of Wall Street estimates and part of their volume miss can be attributed to one time events, such as the earthquake in China and unseasonable weather in Europe. This has created an interesting value play in the beverage maker, but should be taken with some caution in the short term as rising commodity prices continue to weigh on their bottling groups profitability.
Looking at the historical P/E chart you can see that Coca-Cola is trading around its 20 year low on a P/E basis. This offers an investor extremely compelling value that simply can not be ignored. The stock also has a dividend yield currently higher than 3%. The valuation figures noted above are all better than its main competitor PepsiCo [PEP: 55.60, 0.00 (0.00%)], which is very encouraging in this current environment, which makes me wonder how long it can stay at a lower multiple than Pepsi. They have also been able to maintain high margins even in this tough pricing environment, which is essential to the future success of their business. Strong cash flows should allow them to acquire some of their bottling groups, if necessary, as has been speculated. Looking at their debt/equity ratio and current ratio, their balance sheet seems to have no problems and they should have no problem paying of both their short and long term debt obligations. From a valuation and balance sheet standpoint this company is very strong.
Valuation
P/E (ttm): 18.65x
Forward P/E: 14.81x
Operating Margin: 24.19%
EV/EBITDA: 13.285x
Price/Book: 5.27x
Debt/Equity: 0.46x
Takeaways from the Conference Call
It was clear from the Q2 2008 conference call that Coca-Cola is weary of their short term outlook for a few reasons:
- Management stated that they see short term challenges in the North American economic landscape and since almost a quarter of KO’s operating income comes from this region the downturn is forcing management to adjust their plans accordingly.
- Volume growth was only 3%, while the Street’s expectation was 6%, much of which was attributed to one time items.
- Rising commodity prices have affected Coke’s bottling groups [CCE: 12.86, 0.00 (0.00%)], of which KO has some stake in, which led to some losses in the second quarter
- Inflation in international markets is slightly hurting the bottom line
While there are short term concerns, there are positive things from the conference call that is encouraging for the long term prospects of the company:
- Their diversified portfolio in international markets should help them navigate through the headwinds of this current downturn according to CEO Muhtar Kent.
- It is likely that there will not be as many one time events in future quarters that affect the bottom line (ex. weather and earthquakes)
- Double digit EPS growth of 19%, the seventh straight quarter of double digit EPS growth
- Margins are improving in the core business
- The company expects to repurchase about $1.75 billion in stock
- While the company cited an increase in advertising is coming due to the Olympics, they said they will be introducing new initiatives to achieve $400-$500 million of operating savings per year
- They reiterated all their long term growth and EPS targets
Recommendation
While the increase in sales volume was the main thing that drove this stock down, the long term fundamentals of this company are in check. The rise in commodity prices has affected Coke’s bottling groups, but this has less effect on Coke’s bottom line than its competitors. That being said, speculation is that Coke will raise its prices slightly after Labor Day, although I do not think it will hurt demand too significantly in the long run.
With increasing margins and cost cutting initiatives in place for the future, the short term pullback after earnings has created an attractive buy from both a fundamental and value point of view. Their diversified portfolio and development in international markets should keep it going for years to come. I would suggest accumulating shares in the short term and ignore any short term fluctuations in the price as the long term looks bright. So just pop open a can of coke and enjoy the ride up!
-Vinay Ayala
The Following Stocks Were Mentioned In This Article: CCE, KO, PEP
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Hi Vinay,
I enjoyed reading your write up. You had more analysis and meaningful coverage than most of the major financial sites that I read. I also agree that the current metrics used to value KO are really making it a compelling value play which can no be ignored. I put my money into Coke heavily during the last couple months building a sizeable position. It is rare for me to put so much into one stock, but it is very difficult to find a great company at a great price and the price went down so much it made it irresistible. I appreciate your hard work. Send me an email sometime if you like to discuss Coke.
You have excellent analysis. thanks for writting
Good notes on the conference call. The Vitamin Water deal was pretty much Kent’s project, but I have only read an article or two about what the plans for that segment are going forward. I believe it is only about 2% of revenues right now (expected to grow past 5% by the end of the year), but have you heard/read anything about it moving into Europe in the upcoming months? The sparkling soft drink market in the developed markets is deteriorating with all the “health hazards” surfacing regarding cola drinks, and I did not see any specific numbers or if they expect emerging markets to make up for these losses. Also after acquiring Glaceau, KO has really made the move they said they were going to make into developing still beverages, and they are also about to acquire a colombian bottled-water business which should add to their presence in LatAm. I see still beverages becoming a much larger part of their business in the coming years, I was just wondering if anyone had any thoughts on their soft drinks going forward as well as Vitamin Water moving outside of the US.